After a long career at Barron's, I joined Forbes as San Francisco bureau chief in December 2010. I've been writing about technology and investing for more than 25 years. With the Tech Trade, I've picked up where I left off when I was writing the Tech Trader Daily blog at Barrons.com. When I'm not working, you can find me riding my road bike around the Bay Area hills, managing my fantasy baseball team, rooting for my beloved Phillies and Eagles and hanging out in the Valley with my family. You can follow me on Facebook, on Twitter (@savitz), and on Google+.

Netflix: Obvious Takeover Bait, Or Risky Value Trap?

The online video site’s shares have dropped 79% since hitting an intraday peak a tad north of $304 in mid-July. At this point, you know what happened: The company raised prices, irritating customers far more than CEO Reed Hastings had imagined would be the case. He followed up that move with the now infamous decision to create a new brand for the legacy DVD-by-mail business – which was supposed to be called Qwikster.com – then quickly reversed the decision in the face of consumer and investor outrage. More recently, Netflix warned that it expects to lose money in 2012, as the company invests in content and expands its business internationally, while some customers continue to defect in protest against the higher subscription prices. Adding insult to injury, the company took steps last week toward shoring up its balance sheet, selling $200 million of common stock to T. Rowe Price funds, and placing $200 million of convertible debt with the investment fund Technology Crossover Ventures; while financially logical, investors saw the move as underlying the foolishness of the company’s stock repurchases earlier in the year at much higher prices.

In Barron’s over the weekend, my friend Tiernan Ray took note of the recent investments in the stock by former Netflix bear Whitney Tilson, a hedge-fund manager who now thinks the Street’s sentiment on the stock has swung too far to the bearish side of the pendulum. The Barron’s piece asserts that Netflix shares could double from last week’s close at $63.86; after all, the company’s stock was trading in the $120 range as recently as two months ago.

And I see the point. Yes, the company is going to post some ugly quarters in 2012. And it would appear that estimates still have to come down: despite the fact that the company has said it expects to lose money in 2012, the average Street estimate still calls for a profit of 76 cents a share. Also note that competition is heating up: one key feature of the new Amazon Kindle Fire tablet is easy access to a wealth of video content that comes for no extra cost if you happen to be an Amazon Prime member. So you could argue that the stock is still not cheap enough given the extensive risks, including further subscriber losses and escalating content costs.

But Netflix still does have some valuable assets:

The company has tremendous, nearly ubiquitous distribution. There are Netflix streaming clients on almost every type of consumer electronics device. There are Netflix clients on every major console gaming platform; you can watch Netflix movies on PCs, Macs, iPhones, iPads and Android devices. Netflix has snuck clients onto a wide variety of Blu-Ray players and digital televisions. The software is simply everywhere, something that none of its competitors can claim. There are at least a half-dozen devices in my house that have software from Netflix; that ubiquity is a huge strategic advantage.

Over time, Hastings is right that the world will switch to digital distribution from DVDs-by-mail. And that has huge financial implications for Netflix. On the one hand, yes, they are going to have to pay out more money for access to content. But on the other hand, getting rid of the DVD-by-mail business would allow Netflix to eliminate an assortment of key costs: DVD purchases; postal service costs; and distribution centers. Once this process shakes out, the company is going to effectively be spending more on content and less on infrastructure; while there will be turmoil in the short run, it seems like a rational trade-off in the long run.

The company has a market cap of just $3.4 billion, roughly 1x expected 2012 estimated revenues. (The current consensus is actually $3.6 billion, but let’s assume that revenues estimates like those for profits are for the moment too bullish.) Compare that with, say, 4.1x 2012 revenues for Yahoo, 4.1x for Pandora, 4.4X for TiVo or 8x for LinkedIn.

The current valuation makes Netflix a pretty easy acquisition for a whole host of companies that might want to own what remains of the foremost Internet brand for subscription video content. Who might want it? How about Google? Or Apple? Or Amazon? Or even Microsoft, which by the way counts among its board members none other than Reed Hastings. Or how about Dish Network, which after all just spent $320 million to buy Blockbuster. Or let’s think outside the box: How about Comcast, which already owns oodles of content, via its acquisition of NBC Universal, and which knows more than a few things about digital distribution? The point is, Netflix is wounded, but the injuries are far from fatal; if there’s a company out there that wants to own Netflix, the time to pounce is now.

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